- The Kinsela family operated a funeral business through a company; Russell Kinsela Pty Ltd (Russell Kinsela). This had been incorporated in 1953.
- Russell Kinsela held insurance to cover the cost of funeral services.
- When a new insurance statute (the Funeral Fund Act 1979 (NSW)) was enacted, the Kinsela family were worried that their business would be negatively affected.
- In 1981, Russell Kinsela signed a lease with Mr Russell Kinsela and Mrs Joan Kinsela (also directors and shareholders) to rent a business premises at a price which was significantly below the market price. This happened when Russell Kinsela was insolvent.
- The transaction was ratified at a shareholders’ meeting.
- When Russell Kinsela went into liquidation, the liquidator challenged the transfer of the lease on the basis that Mr and Mrs Kinsela had breached their directors’ duties in failing to consider creditor interests when transferring the lease to themselves at far below market value.
- Did Mr and Mrs Kinsela breach their duties to Russell Kinsela by engaging in uncommercial transactions which disadvantaged the company’s creditors?
- Was this a breach of duty even though the transaction had been ratified?
- The NSW Court of Appeal held that the Kinselas had breached their duties – they could not, as shareholders, approve their own misconduct due to the detriment it caused Russell Kinsela’s creditors.
- As it approached liquidation, Russell Kinsela’s assets were “in a practical sense” the creditors’ assets, rather than the shareholders assets.
- The fiduciary duty to consider creditor interests during insolvency are not able to be avoided by a shareholders’ ratification
“In a solvent company the proprietary interests of the shareholders entitle them as a general body to be regarded as the company when questions of the duty of directors arise. If, as a general body, they authorise or ratify a particular action of the directors, there can be no challenge to the validity of what the directors have done. But where a company is insolvent the interests of the creditors intrude. They become prospectively entitled, through the mechanism of liquidation, to displace the power of the shareholders and directors to deal with the company’s assets. It is in a practical sense their assets and not the shareholders’ assets that, through the medium of the company, are under the management of the directors pending either liquidation, return to solvency, or the imposition of some alternative administration.”
(Street CJ at page 730)
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